The Objectives of International Financial Regulation by Howard Davies and David Green

Globalist Bookshelf > Global Finance The Objectives of International Financial Regulation
By Howard Davies and David Green \| Tuesday, November 11, 2008

While contemplating a second Bretton Woods, authors Howard Davies and David Green ask: Has the current system of financial regulation kept pace with the massive growth in cross-border activity? Identifying some of the key issues leaders must grapple with, they explore the newest challenges to global financial integration.

t the beginning of the 21st century, financial markets are more international than ever before.

Capital markets were highly integrated before the First World War, with massive flows of funds from developed to developing countries, but the degree of integration fell sharply during the next 50 years, and capital movements were often highly controlled.

Easy flow across borders

Now, however, "globalized" capital markets are back, but with a difference — capital transactions seem to be mostly a rich-rich affair, a process of diversification finance rather than development finance.

Can the regulators work together effectively to supervise a consolidated system of exchanges?

It is not true to say, as some do, that we live in a borderless world. But finance certainly flows more easily across borders than do goods and services.

A small number of marketplaces, notably New York and London, increasingly dominate transactions in both cash and derivatives markets. Technology has allowed them to take on additional business from anywhere in the globe at very low cost.

That, combined with the search for speed and liquidity, and a kind of "winner takes all" phenomenon, is driving further geographical concentration.

But as concentration in the financial industry has grown, the global economy itself has become multi-polar.

Biq questions

The major questions to be examined in the context of Bretton Woods II are:

How well suited is the system of financial regulation to today’s capital markets?

Has it kept pace with the massive growth in cross-border activity and the changed patterns of intermediation?

Are changes needed to strengthen our defenses against both financial instability and market abuse?

Many would argue that the answers to these questions are clear, and that the system is obviously inadequate.

A kind of ‘winner takes all’ phenomenon is driving further geographical concentration.
The collapse of Long Term Capital Management in 1998 and the Asian financial crisis at the end of the 1990s crystallized concerns about whether the regulatory system, pieced together in an ad-hoc manner over the previous two decades, was able to address the challenges of globalization.

Creating a new authority

Some argued then for the creation of a world financial authority with wide-ranging power to handle cross-border regulatory issues.

After some debate, these calls were rejected by the G7 finance ministers in favor of more modest changes — notably the establishment of the Financial Stability Forum as a coordinating mechanism

As concentration in the financial industry has grown, the global economy itself has become multi-polar.
between existing structures and an increased focus by the IMF and the World Bank on the quality of financial regulation in member countries.

Since then, further modest improvements have been made, but recent market developments have once again generated questions about their adequacy.

Can the regulators work together effectively to supervise a consolidated system of exchanges? Have hedge funds, and more recently, private equity funds, created threats to financial stability and to the integrity of traded markets which the system is not designed to address?

21st century problems

How can the rapid growth of Islamic finance — with its rejection of the traditional concept of interest — be accommodated in a system designed well before it began to emerge as a significant marketplace phenomenon?

Specifically in the European Union, there are those who argue that a single integrated financial market, especially those parts of it with a single currency, necessarily requires a creation of single regulator.

Is the regulation of the global financial system still fit for purpose, if it ever was? If it is under strain, what changes might realistically be made to improve its robustness?

Editor's Note: This feature is adapted from "Global Financial Regulation: The Essential Guide," by Howard Davies and David Green. Reprinted by arrangement with Polity Books. Copyright (c) 2008 by Howard Davies and David Green. All rights reserved.

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